**3.4 Liability risks**

*Banking and Finance*

disruptive [17].

warming.

**3.1 Physical risks**

**3.2 Transition risks**

financial asset values [11].

**3. Climate-related risks**

growth and welfare, but economic mechanisms may also be ineffective in responding appropriately. This could result in structural economic changes, and banks may find themselves facing abrupt adjustment which could be severely financially

Climate-related risks are mainly divided into two basic sets: physical risks from

The physical climate-related risks represent the economic costs and financial losses due to increasing frequency and severity of climate-related weather events (e.g., storms, floods, or heat waves) and the effects of long-term changes in climate patterns (e.g., ocean acidification, rising sea levels, or changes in precipitation),

Physical risks can affect both the supply and demand sides of the economy. On the supply side, natural disasters can disrupt business activity and trade and destroy infrastructure, diverting capital from technology and innovation to reconstruction and replacement [20]. It affects output levels and output growth by impacting labor productivity, speeding up the depreciation of capital stock, increasing cost of repair and replacement, and reducing funds allocated to research and innovation [21]. On the demand side, increasing expenditures for repair and replacement will, ceteris paribus, reduce investment on and consumption demand for other goods. Business investment could also be dampened by uncertainty about future demand and growth prospects and substantial price impacts [22]. Households confronted with more frequent extreme weather events might increase precautionary saving, which

Transition risks arise as a result of the shift to a low-carbon economy (such as changes in public regulation, technology, or in households' or investors' preferences) triggering changes in demand-related factors. This adjustment process is likely to have a significant impact on the economy and, in particular, on some

Transition risks are characterized by a radical uncertainty on the nature of the low-carbon pathway (i.e., the pathway for reducing greenhouse gas emissions, which restructures the economy) and a more usual uncertainty on the methods for

Over the last few years, the topic of stranded assets, caused by risk factors like physical climate change impacts, as well as societal and regulatory responses to climate change, has loomed larger [24]. Stranded assets are defined as assets that have suffered from unanticipated or premature write-downs, devaluations, or conversion to liabilities [25]. With transition toward a lower-carbon economy, carbon assets are expected to suffer from unanticipated or premature write-offs,

Estimation by McGlade and Ekins [27] shows that approximately one third of the current oil reserves, half the gas reserves, and almost 90% of the coal reserves

resulting from continuously growing GHG emissions [18, 19].

would depress private consumption in general [21].

implementing this pathway in economic and social terms [23].

downward revaluations, or get converted to liabilities [26].

more frequent and severe meteorological and hydrological events, and transition risks from the process of decarbonization that is aimed at mitigating global

**78**

Materializing physical and potentially also transition risks will drive up liability risks [21]. Liability risks materialize when organizations are directly or indirectly adjudged legally responsible for climate-related losses and must financially compensate other parties [28, 29]. Organizations are also prone to increasing liability risk if they do not manage transition risks well as enshrined in the polluter pays principle. Organizations whose activities are negatively affected by unmitigated climate change could seek compensation from those who had caused or allowed the damage and thereby at least partially internalize the negative externalities [21].
